Bottom Line

AuthenTec still a hold

When AuthenTec held their mid-quarter update (my take here) where they announced that they had lost a significant customer and lowered guidance for the rest of 2008, both the tone of the conference call, as well as the shock of the announcement crushed not only the stock price, but Wall Street’s and my confidence level in management and AuthenTec’s ability to sustain itself as an ongoing concern.

In fact, on that call, management stated as such, and didn’t even know themselves what the future held.

What a difference a few weeks makes.

Management was much more upbeat on this call, had ready answers to all analysts questions, and actually delivered some good news in the form of higher revenue and profit this quarter, higher cash flows, and guidance that even though was lower that expectations, was not as shocking as it could have been.

Couple that with management’s guidance that they won’t see a significant decline in revenue from their large customer loss until the first quarter of 2010, and you almost got the sense that AuthenTec will be alright.

Certainly the facts back that up at least in the short to mid term.

Sitting on a vast hoard of cash and the very fact that AuthenTec’s share price sits below their cash value, the downside protection one would look for is definitely there.

However, there are some serious risks associated not only with the macroeconomic concerns, but more so with AuthenTec’s competitive advantages in the marketplace and whether or not they will be able to sustain those advantages given the increasing competition in this tight and fiercely competitive environment and market segment.

Let’s look at the cold hard facts:

• AuthenTec is trading for less than $2.00 per share.
• AuthenTec’s Tangible Book Value (TBV) is about $2.60 per share.
• AuthenTec has about $2.38 in cash per share.
• AuthenTec has enough cash from operations, and enough revenue, even accounting for the large customer loss, to sustain operations at a break-even pace for the foreseeable future.
• AuthenTec is still gaining market share in some segments and has yet to really tap into several markets such as low end PC’s as well as the wireless market here in the U.S.
• AuthenTec still offers a compelling intellectual property (IP) pipeline, patented products and systems, a large customer base, is profitable to break-even, and has steady design wins and revenues. This makes them an extremely attractive acquisition target for a larger PC manufacturer, or stand alone semiconductor company.
• If such an acquisition were to take place, it would be at a significant premium to today’s valuation and price seeing as AuthenTec trades for less than cash value.

What’s the downside?

There are several points of contention:

• AuthenTec might steadily lose market share, as they already lost a large customer which accounted for 30-40% of their revenue.
• AuthenTec might not be able to compete in this market as demand rises for smaller and smaller fingerprint sensors that use less silicon that are cheaper to install and produce.
• AuthenTec’s fingerprint technology might not be enough to differentiate them and fight off their fierce rivals as the market becomes more commoditized.
• Further macroeconomic headwinds might force some of AuthenTec’s other customers to cut back on spending even more than they have already, and throw AuthenTec into a cash depletion cycle.
• As a result of these conditions among others, AuthenTec might be forced to reduce their average selling prices further, eat into margins, and not be able to sustain a profitable business model.
• Fingerprint sensors might never become mainstream, and the growth curve could be at its zenith.

So where does that leave us?

It leaves my investment thesis exactly where it stood on my last AuthenTec company update.

I need to wait and see, gather more information, and let this whole malaise shake itself out.

I do know for sure that selling a stock once it has already declined 80% and is trading below its cash value on hand when there is a high chance of the company being bought out, is not a wise thing to do.

At this point, AuthenTec represents a small sliver, regrettably, of my overall portfolio, and therefore, holding shares to gather more information, and wait for my new thesis to play out, doesn’t cost my overall returns, but could greatly enhance them should things play out as I feel they will.

Once again, if you own shares of AuthenTec, especially at much higher levels, I would advise you hold onto them for now.

If you don’t own shares, I would advise not purchasing any, UNLESS you are a seasoned trader, or market veteran that has good liquidity, and would only buy shares as a speculative gamble on a takeover, or for the shares to realize their true worth in terms of cash on hand and book value.

Even then, a purchase of AuthenTec should represent the smallest portion of your portfolio, and should represent no more money than that which you can afford to lose completely.

As for me, I’m content to hold on to my shares for now, and see where things go from here and I advise you to do the same.

New to the AuthenTec story? 

• Start: with my initial company overview here.

*As of 10-30-08. Except share price, all values in millions.

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